PrefBlog

The news from Greece just keeps getting worse:

Credit-default swaps on Greek government debt surged to a record, signaling there’s a 91 percent probability the nation won’t meet debt commitments, after its economy shrank more than previously reported.

Five-year contracts on the country’s sovereign bonds jumped 240 basis points to a record 3,045 basis points, according to CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

Gross domestic product shrank 7.3 percent from a year earlier after declining 8.1 percent on an annual basis in the first quarter, the Hellenic Statistical Authority said. Greece’s financial situation is “on a knife’s edge,” German Finance Minister Wolfgang Schaeuble told lawmakers last night, the parliament’s HIB bulletin said.

But Greece swears up and down it will stay in the Euro:

Greece ruled out quitting the euro on Thursday, shrugging off warnings by its biggest creditor Germany and yet another set of bad economic figures showing it is struggling under the weight of EU/IMF-imposed austerity.

Anger at Greece’s failure to meet fiscal targets that are a condition for its international bailout is nearing breaking point in Berlin and other European capitals, with senior German politicians now talking openly about the possibility of Athens exiting the euro zone.

But Athens ruled out any chance of quitting the single currency, pledging to make every effort to qualify for a €109-billion bailout agreed by euro zone leaders in July, the second rescue package for the debt-laden country in little more than a year.

“There is no threat of Greece exiting the euro zone,” government spokesman Ilias Mosialos said. “We are proceeding with reforms quickly.”

It’s reminiscent of old times! ‘We will not devalue! We will not devalue! We will not devalue! Well, we just devalued, but we had to and that was the last time! We will not devalue!’

Trichet is showing signs of strain:

Trichet, 68, lost his cool yesterday with a reporter who asked whether Germany should abandon the euro and return to the mark as Europe’s debt crisis roils markets and spooks voters.

“I would like very much to hear the congratulations for an institution which has delivered price stability in Germany for almost 13 years,” Trichet said in Frankfurt in an uncharacteristically raised voice. “It’s not by chance we have delivered price stability,” he said. “We do our job, it’s not an easy job.”

If it works, this is bad news for YLO:

Google Inc. (GOOG), owner of the world’s most-used search engine, has acquired Zagat Survey LLC, the review and ratings service, to add features aimed at local businesses and advertisers.

Zagat brings an array of reviews of hotels, restaurants, shopping and other categories, the company said in a blog post today. The service, which offers both printed and online reviews and ratings, was founded more than 30 years ago.

But will small businesses want to buy all their advertising through a place that allows bad reviews?

There was no insider trading of YLO issues reported by the TMX today; nor was there anything new filed on SEDI.

DBRS confirmed three more SplitShare Corporations.

The TRE cease trading order was extended.

It was a good day for the Canadian preferred share market, with PerpetualDiscounts gaining 5bp, FixedResets up 9bp and DeemedRetractibles winning 10bp. Not much volatility. Volume was below average.

There were no surprises in the BoC release:

The Bank of Canada today announced that it is maintaining its target for the overnight rate at 1 per cent. The Bank Rate is correspondingly 1 1/4 per cent and the deposit rate is 3/4 per cent.

The global economic outlook has deteriorated in recent weeks as several downside risks to the projection in the Bank’s July Monetary Policy Report (MPR) have been realized. The European sovereign debt crisis has intensified, a broad range of data has signalled slower global growth, and financial market volatility has increased sharply. Recent benchmark revisions show that the U.S. recession was deeper and its recovery has been shallower than previously reported. In combination with recent economic data, this implies that U.S. growth will be weaker than previously anticipated
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Slower global economic momentum will dampen domestic resource utilization and inflationary pressures. The Bank expects total CPI inflation to continue to moderate as temporary factors, such as significantly higher food and energy prices, unwind. Core inflation is expected to remain well-contained as labour compensation growth stays modest, productivity recovers, and inflation expectations remain well-anchored.

Reflecting all of these factors, the Bank has decided to maintain the target for the overnight rate at 1 per cent. In light of slowing global economic momentum and heightened financial uncertainty, the need to withdraw monetary policy stimulus has diminished. The Bank will continue to monitor carefully economic and financial developments in the Canadian and global economies, together with the evolution of risks, and set monetary policy consistent with achieving the 2 per cent inflation target over the medium term.

There are rumours that the completely voluntary and not coerced in any way whatsoever Greek bond exchange offer might be in trouble:

Private sector participation in a Greek debt swap has so far reached the 75-percent mark, far below a 90 percent target, newspaper Imerisia reported on Wednesday without naming its sources.

Greece last month turned the screws on investors, saying it may not go ahead with the debt swap—a key part in a second bailout package to stave off the country’s bankruptcy—if holders of less than 90 percent of the bonds take part.
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A Greek finance ministry official said it was too early to provide a take-up figure. “The process is ongoing, it is premature to give a percentage,” the official told Reuters on condition of anonymity.

Greece has asked bondholders to declare their interest in taking part in the debt swap by Friday. Greece expects to submit a final bond swap offer to investors in October, with a view to complete the exercise by the end of the same month.

As I have often noted, bankruptcy laws evolved over a period of 300 years. To their vast astonishment, the Europeans are finding that the re-write may take a little time:

There were no insider trading reports for YLO today, but I did learn that overlapping NCIBs are allowed which seems a little strange to me. The TMX reported no insider buying of YLO issues today.

It was a good day overall for the Canadian preferred share market, with PerpetualDiscounts losing 4bp, FixedResets gaining 10bp and DeemedRetractibles winning 26bp. Volatility picked up, skewed to the upside. Volume was a little above average.

PerpetualDiscounts now yield 5.29%, equivalent to 6.88% at the standard equivalency factor of 1.3x. Long-term Corporates now yield about 4.9% (maybe a little less?) so the pre-tax interest-equivalent spread is now about 200bp, the same as it was on August 31 as both yields have declined about the same amount.

The US has a new plan to balance its books, remarkably similar to Europe’s:

Bank of America Corp. and JPMorgan Chase & Co. (JPM) were among 17 banks sued by the U.S. to recoup $196 billion spent on mortgage-backed securities bought by Fannie Mae and Freddie Mac.

The Federal Housing Finance Agency, on behalf of Fannie Mae and Freddie Mac, filed 17 lawsuits yesterday in New York state and federal courts and in federal court in Connecticut. The FHFA accuses the banks of misleading Fannie Mae and Freddie Mac about the soundness of the mortgages underlying the securities.

The UK government may have caught a sanity germ:

U.K. Prime Minister will seek a “significant watering down” of a planned overhaul in banking regulations because the new rules may hurt growth and spur lenders to quit the country, the Sunday Telegraph reported.

Cameron told senior cabinet officials that any proposals from the Independent Commission on Banking to split banks’ retail and investment units or require lenders to raise capital must be reviewed, the newspaper reported, citing unidentified officials. The government is concerned that HSBC Holdings Plc (HSBA) and possibly other banks may move operations away from the U.K. if planned “ring-fencing” rules are implemented, according to the Sunday Telegraph.

With respect to liquidity, here’s a report from the front lines:

Banks are seeking to retain their liquidity, making interbank lending more difficult, as funding from money and capital markets becomes harder to obtain, ABN Amro Group NV Chief Executive Officer Gerrit Zalm said.

Interbank borrowing for more than six months is also becoming problematic because banks are reluctant to lend to competitors with “big positions in weaker countries’ debt, for instance,” he said today on Dutch television program “Buitenhof.”
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A demise of the euro would have “catastrophic” consequences for the Dutch economy, which sends about three- fourths of its exports to other euro-zone states, and “would cause a recession that would make the 1930s a trifle by comparison,” Zalm said.

Europe is getting more interesting by the day:

Finland is stepping up efforts to find a compromise with Europe on its collateral demands amid International Monetary Fund opposition to forcing Greece to give euro members extra security for new loans.
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Europe’s efforts to contain its debt crisis risk unraveling as individual nations’ demands for collateral, Greece’s deteriorating economic predicament and wavering commitment to austerity packages from euro members such as Italy throw any recovery in doubt.
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Finland’s anti-bailout party, which calls itself “The Finns,” last month polled as the country’s most popular, according to broadcaster YLE. The party saw its backing surge fourfold in the April election, making it parliament’s third- biggest. The party’s leader Timo Soini has railed against the costs of funding bailouts and rejects Europe’s ambition of preventing a Greek default.

“The European Union is breaking its own rules and Finland shouldn’t have anything to do with it,” Soini said last week. “This is a disaster. Finland should stay outside and oppose these measures.”

The Finns aren’t the only ones opposing a bail-out:

The Social Democrats, Germany’s main opposition party, took 36.1 percent to win yesterday’s election in Mecklenburg-Western Pomerania, while Merkel’s Christian Democratic Union had 23.3 percent, ZDF television projections showed. The result in the eastern state where Merkel’s election district is located means her national coalition has been defeated or lost votes in all six German state elections so far this year as voters resist her bid to prevent a euro-region breakup by putting more taxpayer money on the line for bailouts.

“Merkel’s CDU got beat in her home state, adding to the sense that opposition to any solution to a deepening crisis is growing,” Sebastien Galy, a senior foreign-exchange strategist at Societe Generale SA in London, wrote in an e-mailed note.

Ackerman had some cheerful things to say about the markets:

The chief executive officer of Deutsche Bank AG (DBK), Josef Ackermann, said market conditions remind him of late 2008, and urged lawmakers to act to avoid a repeat of the financial crisis, which spawned the worst global recession since the Great Depression. Investors drove yields higher on the bonds of Greece, Portugal, Spain and Italy yesterday on doubts Europe’s leaders will be able to stop the sovereign debt contagion.
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The Bloomberg Europe Banks and Financial Services Index of 46 stocks dropped almost 10 percent in the past two sessions, to the lowest level since March 31, 2009. The Markit iTraxx Financial Index linked to senior debt of 25 banks and insurers soared 13 basis points to 259, according to JPMorgan Chase & Co. The difference between the three-month euro interbank offered rate, or Euribor, and the overnight indexed swap rate, a measure of banks’ reluctance to lend to each other, rose to 0.77 percentage point, the widest gap since April 2009.
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Many European banks “obviously” wouldn’t be able to shoulder writedowns on sovereign debt held in their banking books based on market values, Ackermann said. Greek two-year notes traded yesterday at less than 50 percent of face value.

However, Greece is going to accellerate its reforms, so everything will be all right. Just don’t panic, OK! Dear God, don’t panic! STOP PANICKING THIS MINUTE, YOU NASTY SPECULATORS!:

Greece said it will accelerate austerity measures pledged in return for international financing as pressure mounted from European partners before the payment of a sixth tranche of bailout loans.

“Greece isn’t a pariah in the European Union or an open wound,” Finance Minister Evangelos Venizelos said from Athens on state-run NET Radio today. “Greece is an equal member of the European Union with deficit and debt problems. Greece can overcome these problems with these reforms.”

Venizelos said he received approval from the Cabinet today to immediately transfer state assets to a special fund for sale, place civil servants in a “reserve” system to retrain them and cut expenses, as well as merge and shut down dozens of government agencies that are a drag on spending.

Ackerman was also in the news for the latest IIF counter-attack against excessive regulation:

The study includes a series of scenarios and a considerable number of variables in determining the impact of the sum of financial regulatory measures. It estimated that all the measures combined will significantly boost the capital needs of banks relative to a base scenario – an additional capital requirement for banks in the leading industrial economies of $1.3 trillion by 2015, according to its central scenario, and this could push bank lending rates up by over 3 ½ percentage points on average for the next five years. The result could be 3.2 percent lower output by 2015 in these economies than would otherwise be the case. This would lead to about 7.5 million fewer jobs being created. The negative economic effects would likely fade in 2016 and beyond but, the maximum drag of reform on the global economy would be at a time when it is apparently least well placed to handle it.

Naturally, the regulators immediately countered:

Group of Seven finance ministers and central bankers will discuss financial regulation at a meeting Friday in Marseille, a Canadian Finance Department official told reporters Tuesday on a conference call.
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The official said overly indebted countries in Europe and overly indebted households in the U.S. are the more important headwinds facing the global economy. Canada is relatively pleased with the progress the G20 is making on completing its regulatory program, and Finance is dismissive of the argument that demanding the banks to keep bigger financial cushions is hurting the economy.

If we had better financial regulation in 2007 and 2008, we might not be in the situation we are in now, the Canadian official said.

And if it rained lemonade we could all have a nice drink. So?

I believe that they’re probably both right: all else being equal, increased regulation on the contemplated scale will cause a depression, and that the IIF is being alarmist. I believe this because all else is not equal and never is. What is far more likely is that the banks, constrained by capital requirements, will simply reduce their lending business and there will be an increasing amount of disintermediation as corporations and governments go directly to the public markets. They might lend to small business, but they might also face increased competition in that sector from unregulated shadow banks.

So what will this lead to? It will lead to an ostensibly safer, but far more brittle financial system. Manulife got into trouble during the crisis, but were able to pump a huge amount of capital into their operating subsidiary on very short notice because the holdco was able to borrow billions from the banks on short notice. BofA was able to take over Merrill Lynch on short notice.

If capital regulation leads to lower bank flexibility in a crisis, watch out! We’ve all seen what a mess the politicians make of things when they make up new rules on the fly. It won’t be pretty.

YLO’s CFO has “stepped down”. That was sudden. There were no insider trading reports for YLO on SEDI today. Interestingly – and perhaps related to the hasty departure? – there was no insider trading of the preferreds reported by the TMX today either.

HSB is selling its Canadian retail brokerage:

As HSBC Holdings PLC (HCS-N26.440.100.38%) looks to shed costs from its global operations, the bank acknowledged it is in talks to sell part of its Canadian operations, but said a deal has not yet been reached.

After reports two weeks ago that the U.K.-based bank had opened the books on its Canadian retail brokerage to potential bidders, HSBC issued a statement Tuesday confirming the process. However, “no decision has yet been made to proceed with any transaction,” the bank said.

DBRS confirmed IGM on Friday:

DBRS has today confirmed the Unsecured Debentures rating of IGM Financial Inc. (IGM or the Company) at A (high) and the First Preferred Shares rating at Pfd-2 (high); the trends are Stable. IGM is one of the most consistently profitable financial services companies in Canada, reflecting a leading market position in the mutual fund manufacturing and distribution market through the operations of both Investors Group Inc. (IG) and Mackenzie Financial Corporation (Mackenzie). The rating is primarily based on the profitability, operating cash flow and business strengths of the Company’s IG subsidiary, while recognizing the complementary positive contribution of diverse products, brands and distribution channels offered through the Company’s Mackenzie and Investment Planning Counsel Inc. (IPC) business segments.
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In addition to strong profitability, the Company’s credit rating also benefits from strong cash flows, which easily cover the upfront distribution costs of mutual fund sales; strong liquidity; and a conservative financial profile. Debt plus preferred shares-to-EBITDA was less than one time which is very conservative and a sharp improvement from year ago levels following a large debt maturity and growth in retained earnings. Over the past 12 months, the Company’s ratio of debt plus preferred shares-to-total capitalization fell from 29.1% to 25.7%, which remains appropriate for the rating.

DBRS also confirmed twenty-two SplitShares:

The Preferred Shares were last confirmed in August 2010. Equity performance was generally positive from July 31, 2010, to March 31, 2011; however, net asset values (NAVs) dropped over the past few months as global equity markets were negatively affected by concerns over the European sovereign debt crisis and the U.S. debt ceiling deadline. High volatility levels intensified following the downgrade of the U.S. long-term debt rating below AAA by one major rating agency. Notwithstanding the current volatility and sharp drop in markets over the past few months, the current levels of protection available to the Preferred Shares are commensurate with the ratings assigned. The rating confirmations are also based on longer-term performance and structural features of the Issuers that benefit the Preferred Shares. Other key rating factors are the credit quality and diversification of each Portfolio; the amount of distributions paid to the Capital Shares; and the expected maturity date of the Preferred Shares of each Issuer.

Frankly, I’m a little surprised at some of the names in the confirmation list! FFN.PR.A still at Pfd-3(low)? NAVPU was only 13.10 at August 31, presumably a little less now. When it was last confirmed 2010-8-10 the NAVPU was 13.73.

Today’s red-hot investment idea is: buy stock in producers of mosquite repellant and producers of anti-mosquite-borne-disease drugs. Our beloved morons on Toronto City Council have decreed mandatory downspout disconnection, so today I finally got around to booking an appointment with a contractor who can do it without injuring himself or toppling the house over, like I would. I was told that a lot of people aren’t redirecting their downspouts, they’re just capping them – so (a) the eavestroughs will just overflow when full and (b) we’re going to have a lot of standing water in the future. It’s interesting to note the similarity to what I believe will be the unintended consequences of increased bank capital regulation, and the fact that regulators, in general, are incapable of thinking things through; but the situation does suggest my red-hot investment idea. Never say I don’t do enough for you guys!

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts winning 20bp FixedResets losing 3bp and DeemedRetractibles gaining 7bp. Not much volatility. Volume was abysmal.

The SEC has a new policy: Prove you’re not a crook!:

U.S. securities regulators have taken the unprecedented step of asking high-frequency trading firms to hand over the details of their trading strategies, and in some cases, their secret computer codes.

The requests for proprietary code and algorithm parameters by the Financial Industry Regulatory Authority (FINRA), a Wall Street brokerage regulator, are part of investigations into suspicious market activity, said Tom Gira, executive vice president of FINRA’s market regulation unit.

“It’s not a fishing expedition or educational exercise. It’s because there’s something that’s troubling us in the marketplace,” he said in an interview.
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It has alarmed some traders who are afraid their “secret sauce” — intellectual property sometimes developed over years and at great cost — could get into the wrong hands, especially when SEC and FINRA examiners leave for the private sector.

Having the code and insider knowledge of what works and what doesn’t will help the employment prospects of regulatory personnel, which is of course the whole purpose of regulation.

Now that the IMF and the ECB hold a lot of Greek bonds, there’s unprecedented concern about bondholder rights:

The International Monetary Fund opposes European plans to force Greece to put up collateral in its second rescue, said four people with direct knowledge of the matter.

The use of collateral, a concession to win Finland’s backing for 109 billion euros ($155 billion) of loans pledged by euro leaders in July, would deny the IMF priority creditor status and violate Greek bondholders’ rights, said the people, who declined to be named because the talks are in progress.

IMF objections threaten to snag Europe’s crisis-management effort after aid of 256 billion euros for Greece, Ireland and Portugal failed to restore order.
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Greece’s predicament deepened today with the forecast of a worsening economic contraction and a two-week suspension of a European-IMF economic review mission to give the government time to plot a pro-growth course. Two-year Greek yields rose today above 47 percent, a euro-era record.

Banking in the US is more interesting than in Canada:

Mortgage rates near historic lows have sparked a refinancing boom that has U.S. lenders struggling to handle the surge.
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The lending logjam extends to the nation’s biggest banks, which fired thousands of mortgage workers after interest rates rose in November through February, chilling refinancing demand. Now, the time needed to close a loan has as much as doubled to 60 days, according to Wilson and other bankers, and lenders are holding some mortgage rates higher than they could be to slow the torrent of customers, data show.

Refinancing applications are up 83 percent from this year’s low in February, according to an index compiled by the Mortgage Bankers Association, a Washington-based trade group. After topping 5 percent that month, the average rate on 30-year fixed loans fell two weeks ago to 4.15 percent, the lowest in surveys dating back to 1971 by Freddie Mac, the second-largest U.S. mortgage-finance company.

How about a double dip?

The Labor Department said U.S. payrolls were unchanged last month, the weakest reading since September 2010 and worse than the median economist forecast that called for growth of 65,000. Stocks sank and Treasuries surged in August as investors bet that the odds of a recession had increased. Markets reversed course toward the end of the month amid speculation the Federal Reserve would act to spur growth.

There’s more!

Bearish bets against the S&P 500 rose to a nine-month high as short sellers increased speculation stocks may decline. The proportion of S&P 500 shares outstanding sold short on Aug. 29 rose to 3.03 percent, the most since the end of November and up from 2.37 percent at the beginning of August, according to New York-based Data Explorers, which provides research on short sales and stock lending. Short selling of the gauge reached a three-year high of 5.52 percent in August 2008, before the index sank to a 12-year low in March 2009.

The yield curve, or the difference between two- and 30-year Treasury debt, narrowed to 312 basis points, the least in a year, as the jobless data bolstered the view that Fed Chairman Ben S. Bernanke will be inclined to take addition steps beyond the two previous rounds of debt buying, known as quantitative easing, or QE.

and even more!

Treasuries rose, pushing 10-year note yields below 2 percent, as the government’s payrolls report showed no jobs were added in August, stoking speculation that the Federal Reserve will increase its purchases of longer- maturity debt.

U.S. 30-year yields fell to the lowest in since January 2009 as U.S. employment data were the weakest reading since September 2010.
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The 10-year note yield fell 14 basis points, or 0.14 percentage point, to 1.99 percent at 5 p.m. in New York, according to Bloomberg Bond Trader prices. The price of the 2.125 percent security maturing in August 2021 rose 1 9/32, or $12.81 per $1,000 face amount, to 101 8/32. The yield touched 1.9806 percent.

Thirty-year bond yields fell 20 basis points to 3.30 percent and two-year note yields rose two basis points to 0.20 percent.

20bp on thirty-year paper? That’s like about maybe three bucks on price!

I think that at some point the regulators are going to have to do something about the more patronizing manipulation rules, by which I mean “repeal”. Tony Ianno got in trouble for high-closing:

In agreeing to the settlement, he now faces a range of sanctions from the regulator, including a five-year cease trading order that only allows him to conduct limited trading through his Registered Retirement Savings Plan.

He also faces a five-year ban on serving as a director or officer of a publicly-traded company and is also prohibited from serving as a company promoter during that time.

Additionally, Mr. Ianno has agreed to pay $50,000 toward the costs of the OSC investigation in addition to another voluntary payment of $50,000, OSC Senior Litigation Counsel Alexandra Clark Alexandra Clark told the hearing

I’m glad the extra $50,000 was voluntary, and not extorted from him or anything like that.

In March 2010, the OSC alleged the one-time parliamentarian broke securities laws by artificially inflating the share price of Covalon Technologies Ltd., a junior biotechnology firm. Mr. Ianno had purchased roughly 4 million of Covalon’s common shares in transactions worth $7.6-million at various times in 2007 and 2008.
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The OSC has said the lion’s share of Mr. Ianno’s share purchases were made on margin, meaning they were purchased using credit provided by various brokerage firms. Those loans were then secured against the value of the shares.

According to the OSC’s original statement of allegations, Mr. Ianno purportedly engaged in inappropriate trading of Covalon shares as he faced some 27 margin calls from eight different brokerages.

Specifically, he was accused of making frequent end-of-day purchases through multiple brokerage accounts that often resulted in increases in Covalon’s stock price.

Well, the “multiple brokerage accounts” part is something of a red flag, but high-closing was always hard to police and nowadays it’s getting worse. You can expect professionals to know the rules, but now there are hundreds of thousands of retail guys with market access that’s only very lightly filtered.

High closing has no effect on the valuation of the stock and no effect on the long-term price of the stock. By taking it so seriously, the regulators are pandering to momentum players when in fact their efforts should be directed towards protecting value investors. If you want to do something about high closing, then (a) stop using closing prices for margin and valuation purposes and use the closing quote and (b) give retail access to algorithms so that if somebody puts in a high bid at 3:59:55, there’s a good chance it will be executed at 3:59:55.015

There were no new fillings on the YLO MTN buyback today, but the usual basket of preferred shares was reported by the TMX as insider purchases. There has been no response from the company to my inquiry regarding their apparent exceeding of the maximum annual limit on their NCIB.

The Canadian preferred share market was fairly quiet in advance of the long weekend, with PerpetualDiscounts up 2bp, FixedResets down 1bp and DeemedRetractibles winning 8bp. Volatility was low. Volume was almost non-existent.

The goose that laid the golden eggs is looking a little green around the gills:

Banks in Europe are exploring ways to cut costs by routing more of their trades and other business through overseas subsidiaries, a plan that may shift tax revenue away from London and loosen European regulators’ influence over the lenders.
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Banks could record as much as 30 percent of the value of their trades through Hong Kong, Singapore and other jurisdictions instead of hubs such as London and New York without running into trouble with regulators, Matten said. Such a move would hurt traditional hubs such as London because assets are treated for tax and regulatory purposes in the country where they are booked. It would also allow banks to sidestep the U.K. bank levy, introduced last year to raise 2.5 billion pounds ($4.1 billion) from lenders operating in Britain, as well as any financial transaction tax imposed by the European Union.

Haresh Sapra, professor of accounting at the University of Chicago Booth School of Business, writes an interesting piece on Bloomberg titled More Transparency May Hurt Markets:

Standard setters have argued that fair-value accounting would alleviate information asymmetry between insiders and outsiders. Yet insiders of many financial institutions have complained that rather than enhancing market discipline, fair- value accounting would introduce volatility into their reported numbers, thereby inducing suboptimal decisions.
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The recent financial crisis is a case in point. When liquidity started drying up, some banks began to sell their illiquid loans, putting downward pressure on prices. Anticipating the fall in prices, other banks started selling their loans and prices declined further, leading more banks to sell their loans. The effects were so severe that prices no longer reflected fundamentals but rather the amount of cash or liquidity available to buyers in the market.

If information asymmetry were the only friction between insiders and outsiders, the feedback effect would be weak or even nonexistent and prices would play their proper role of providing market discipline. But in strategic environments with multiple imperfections, market participants who try to extract the informational content of current prices distort this very content by adding an extra, nonfundamental component to price fluctuations.

As a result, the choice of an appropriate measurement regime amounts to a dilemma between ignoring price signals — as one would in a historical-cost regime — and relying on their degraded versions, as would be done in a fair-value regime.

Fabulous Fab, the man being persecuted by the SEC for acting as a broker, is in the news again:

Goldman Sachs Group Inc. (GS) trader Fabrice Tourre, accused of misleading investors in a collateralized debt obligation, said in a court filing that IKB Deutsche Industriebank AG (IKB)’s alleged $150 million investment was actually made by two Jersey-based companies.

Tourre wants to take testimony of witnesses at Loreley Financing (Jersey) No. 29 Ltd. and Loreley Financing (Jersey) No. 30 Ltd., according to the filing yesterday in federal court in Manhattan. The U.S. Securities and Exchange Commission has said Duesseldorf, Germany-based IKB made the investment in the CDO, Abacus 2007-AC1.

“Discovery in this matter thus far has shown, however, that IKB’s alleged $150 million investment was, in fact, made by” the Jersey-based companies, Tourre’s lawyers wrote in the filing.
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“I think what they’re trying to establish here is they have sophistication piled on top of sophistication to show that this was a well-reasoned investment by, yet again, a sophisticated institution,” Jacob S. Frenkel, a former Securities and Exchange Commission lawyer now in private practice in Potomac, Maryland, said in a phone interview today.

The Canadian preferred share market started the month on a happy note, with PerpetualDiscounts winning 25bp, FixedResets up 21bp and DeemedRetractibles gaining 6bp. Volatility was a little bit better than usual, skewed towards positive returns. Volume was low.